The Importance of Having An Up-To-Date Balance Sheet

As a business owner, it is vital to understand exactly what money you have coming into the business, as well as any expenses due to be paid. A balance sheet allows you to easily track spending and earnings, and clearly shows what your business owns and what it owes. It shows this information in terms of your company’s assets, liabilities and equity. Let’s have a quick look into these in further detail:

1. Assets

Assets refer to any item that your business owns, and these are split into two types: current and noncurrent. Current assets are items that your business has acquired over time, and will be either used up or converted into cash in one year of the date on the balance sheet. Examples of current assets include business insurance, accounts receivable, liabilities and cash inventories.

Noncurrent assets are fixed assets or items that your business owns, for example, computers, office equipment, building property, long-term investments, stocks and bonds.

2. Liabilities

Liabilities are also split into current and noncurrent. Current liabilities are payment obligations that your business has to pay within 12 months of the date on the balance sheet. This includes things like outstanding bills, salaries due to be paid, and income tax yet to be paid.

Noncurrent liabilities are amounts that your business has more than one year to pay. Bank debt is an example of this.

3. Equity

If you are a sole trader, the equity is referred to as ‘owner’s equity’, but if your business is a corporation the equity is referred to as the ‘stakeholder’s equity’. Equity is what is left once all liabilities are subtracted from your company’s assets.

Equity consists of paid-in capital (the amount each shareholder initially paid for their stock), and retained earnings. Retained earnings are the amount of money your business reinvested into itself.

Importance of Balance Sheets

Balance sheets are critical in businesses as they ensure the owner is aware of the company’s financial position. A lot of business owners only realise their business is in trouble when it is too late to do anything about it. A balance sheet clearly shows the figures, allowing you to make informed decisions about the finances of your business. If your ratio of business’s assets to liabilities is less than 1:1 then your company is at risk of going bankrupt, and you need to make some quick financial decisions to improve things.

Balance sheets also let banks know if your business is in a healthy enough position to qualify for business loans or credits. They allow investors to understand where their funding will be allocated, and what money they can expect to receive back from the business at a later date.

Benefits of An Up-To-Date Balance Sheet

Balance sheets reflect essential financial information, here are some of the main benefits of keeping an up-to-date balance sheet:

1. Preparation

Keeping accurate company records is essential for completing tax returns. By keeping your balance sheet updated, your accountant can easily prepare your tax return and ensure you aren’t paying more than necessary.

2. Business Planning

By monitoring your company’s finances you can see problems before they arise. With accurate balance sheets, any finance issues will be detected early on and prevent any cash flow issues from occurring.

3. Risks and Profitability

Your company’s assets and liabilities are clearly visible on a balance sheet, so you can easily see your short-term and long-term debts. A positive net worth is where you have more assets than obligations, so ensuring your liabilities are lower than your cash balance then you are more likely to be accepted by investors.

4. Loans

Looking at your balance sheet will help others easily understand your business finances too. Lenders will always ask for a company’s balance sheet to see how financially stable it is, and whether it is worthy of credit.

5. Problem Prevention

Making a profit is the key goal for most business owners, so growing equity is something to look for on your balance sheet. If a business isn’t achieving that, a balance sheet will give a good indication of what assets and liabilities are preventing the business grow.

Does Your Business Need A Balance Sheet?

There is no legal requirement for an unincorporated business to have a balance sheet (e.g. if you are a sole trader or partnership). Only publicly trading companies are required to have them. However as we have discussed, balance sheets are incredibly useful to provide a clear overview of your financial status.